18 May 2012

One of the success stories in retail banking over the past decade has been the expansion of TD, Canada’s second-largest bank, along America’s eastern seaboard, fuelled by such basic ideas as longer opening hours and service that is better-than-halfway decent. But a fraud case in Florida threatens to sully the reputation of the firm known to millions as "America's Most Convenient Bank."

TD was the main depository bank for Scott Rothstein, a celebrity lawyer who sold dodgy investments linked to legal settlements. His $1.2 billion Ponzi scheme collapsed in 2009 and he was sentenced to 50 years in jail. Angry investors went after TD, accusing it of “pivotal participation” in the conspiracy. In a court filing plaintiffs alleged, among other things, that TD officers had met with investors to vouch for Mr Rothstein, even conducting “shows” for his structured products at TD branches and corporate offices; that they had misled Rothstein clients about the balances of, and restrictions on transfers from, accounts supposedly held for their benefit; and that the bank had, at Mr Rothstein’s request, moved $16m of investor funds to an account he held in Morocco.

TD has consistently denied engaging in wrongdoing. It settled with one group of investors for $170m. A case brought by another group went to trial, resulting in a $67m award in January, which TD is appealing. This set a worrying precedent for the financial sector as it was the first civil verdict against a bank for aiding and abetting fraud in a case brought by the victims (as opposed to the bankruptcy trustee). “It is a landmark case that will cause banks around the world to shudder,” says Charles Intriago, president of the Association of Certified Financial Crime Specialists.

There may be more trouble ahead for TD. One of the bank’s internal assessments of the money-laundering risks posed by Mr Rothstein had a red bar across the top with “High Risk” emblazoned on it. Those words were mysteriously missing in the version the bank presented to the court, a discrepancy only spotted when the correct version surfaced in another case in which TD is being sued. This matters because the document could be seen as having supported the bank’s defence that it did not consider the lawyer risky and thus did not conduct the enhanced investigations that might have detected the fraud. TD denies having tampered with evidence, blaming the blacked-out bar on a "copying error."

It stands accused of burying documents, too. In a filing on April 24th, TD recanted statements that it and its lawyers had made in court about an internal document called the “Standard Investigative Protocol”, which sets out the bank’s policies on the detection of dirty money. Having said several times that no such document existed, TD eventually produced it and announced that it had replaced its outside legal counsel, Greenberg Traurig, with another firm. One of the Greenberg lawyers representing TD has since left the firm.

Reportedly livid about these developments, the judge who oversaw the $67m award in January, Marcia Cooke, called a hearing to examine whether TD and its lawyers should be held in contempt. At its first session, on May 17th, lawyers for Mr Rothstein’s victims called for extra penalties against the bank and its lawyers—arguing that the award would have been higher had the jury known about the documents—and asked that TD’s pleadings be struck, which, if it were to happen, would cripple its appeal. Judge Cooke appeared to show little sympathy for the bank and Greenberg, reportedly saying: “It is hard for me to describe in words the difficulty throughout this trial related to documents and discovery…It was almost daily.”

This drama is good news for other investors lining up to sue TD. After weighing new evidence, a judge recently gave the go-ahead for another Rothstein-related case to proceed, this one a racketeering suit brought by New York-based Emess Capital. The law permits triple damages in such cases, and some think Emess could walk away with more than $100m. “The cases against TD are helping victims of frauds everywhere to compile a road map on how to recover their losses from deep-pocketed financial institutions,” says Mr Intriago.

On top of this, some expect TD’s regulator in the United States, the Office of the Comptroller of the Currency, to weigh in with enforcement actions and the Department of Justice to bring indictments. At least one of the individuals involved in the document debacle has hired a criminal-defence lawyer. The Rothstein scam may have been small compared with Bernard Madoff’s, but the implications of its collapse for banks and their legal advisers could be bigger.